How to Start a Hedge Fund: Part 4

August 15, 2007 |

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This is the final installment in a four part Q&A on “How to Start a Hedge Fund” with Jeffrey F. Kuchta, CFA, Managing Member of Hedge Fund Launch LLC

HFL:Should I just hire an internal marketing staff?

If you have a sufficient amount of operating capital, then it may make sense to hire an internal marketing staff.  The key point is that most dedicated internal marketing professionals will require a salary, benefits, as well as a percentage bonus based on the capital raised and retained.  For some start up managers this is not feasible, for others with an appropriate amount of operating capital, this situation is preferable as there is more internal control over the activities of the marketers.  Most mature managers eventually gravitate toward hiring and internal marketing and client services team as operating capital is less of an issue at AUM levels greater than $250 mil.

HFL: I generate spectacular returns, and that’s all investors should really care about.  Why should I provide investors any sort of transparency?

Kuchta: The days of attracting and retaining investors solely by providing a great monthly return stream are largely gone.  Given the increase in hedge fund frauds and operational-related blow ups over the last decade, individual investors, institutions, fund of funds, and consultants are requiring greater levels of transparency before considering an investment with a hedge fund manager.  Add the fact that you are a start up, and the required level of transparency will be significant. 

You also must understand that you may be one of a number of hedge funds in an investor’s portfolio.  Most astute investors these days are methodically risk managing their aggregate hedge fund holdings and rely on a certain amount of transparency in order to properly manage their exposures.

HFL: What sort of transparency might I be required to provide?

Kuchta: In the initial phase, most investors will require references, background checks, a standard industry due diligence questionnaire, some sort of proof of prior success, numerous phone calls to discuss your investment process, risk management and operations, and on site visits.  They may also want to speak with all of your service providers to confirm that they have been retained by you.  On an ongoing basis, it would not be out of the ordinary for investors to want quarterly (or more frequently) updates via phone, in person, and/or in writing. 

It is a good policy to formulate a monthly or quarterly letter that explains performance for the past period, the outlook for the near future, and any significant operational changes.  You should also include portfolio exposure information in the letter to keep the investors apprised of the portfolio make up and any significant shifts in exposures.  These sorts of letters go a long way towards keeping investors informed and happy, even if the news is negative.  Hiding negative news from investors always ends in disaster.

The times they are a changin’.  Competition amongst start up hedge funds is heating up and it really is a buyers market.  In other words, investors wield a big sword in this game and start up managers are going to be increasingly required to cater to investors’ wishes if they hope to have any success in growing their operations.

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